The cash flow of small businesses is one of the most critical components of your success or failure. Without money in cash, big incomes don’t have any meaning. Many businesses that are profitable in paper end up in bankruptcy because the amount of cash inflow doesn’t compare with the amount that’s going out. Companies that don’t have a proper management of their cash may not have the ability to make the necessary investments to compete, or may even have to pay more when asking for loans to work.
Main Reasons for Small Business Cash Flow Problems
Over the years, academic studies have found that problems in the cash flow of small businesses can become one of the main reasons for the ruin or bankruptcy of these. Over the years scholars have discovered that the influence the capital has is one of the main reasons of failure of small companies, along with the lack of experience, a bad location, a bad management of inventory and overinvesting in fixed assets.
However, to understand and appreciate the relevance of a proper management and administration of the cash flow of small businesses, the following demonstrates some fundamental concepts and some suggestions to put in practice and improve your cash flow.|
Understand What Cash Flow Really Means
Before we fully immerse into the subject, it is necessary to know what CASH FLOW is. It’s basically fund movements in and out of a business. It’s controlled weekly, monthly or quarterly. There is essentially two types of cash flow:
- Positive cash flow: It’s when the cash that is being received by sales, accounts receivable, etc., is higher than the quantity of cash that is going out for accounts payable, monthly spending, salaries, etc.
- Negative cash flow: This happens when the cash outflow is higher than the cash inflow. This generally means problems for a business, but there are steps you can take to remedy the situation and generate or collect more money in cash, with either cutting or eliminating cost.
Achieving a positive cash flow isn’t something you only get by chance. You have to work for it. It’s necessary to analyze and manage the cash flow to have a higher efficiency in the control of inflows and outflows. The majority of the accounting software packages oriented for small or medium sized companies will help you make a cash flow statement. There are also many online websites that offer free templates that will facilitate the job enormously.
The Difference between Cash Flow and Income
Another concept that needs to be managed is INCOME. It is important to know that it is not the same as cash flow. In fact, the income, as defined by the rules of accountability, is simply the result of the revenue minus spending. But the cash flow of small businesses, or companies in general, result from many other financial figures, including accounts payable, capital spending and debt services. Smartly managing cash flow of small businesses implies focusing on each one of these elements.
Surely, the cash flow of small businesses must be positive to generate income. If we apply the logic, we will understand that you need enough money to pay employees and suppliers that do or facilitate the process to elaborate and sell products. This sale of product is what helps generate income. But if the company doesn’t have enough money to make the product, then there will be nothing to sell, therefore there will never be an income. From there the importance of structuring a company correctly to have a positive cash flow.
The whole process of watching a business grow is circular: To watch it grow you must dispose of cash, make investments and carry out certain spending to make upgrades that will lead to successful growth, a higher income and a new cash flow. There may be planning to open up a new office in a new city or fabricating a new product that could be sold to bigger clients. The cash flow of small businesses can be seen as a tool to achieve goals.
Business owners can usually see growth as a solution to the cash flow problems, since making a business grow also increases your money in cash. However, there’s a risk of not managing yourself correctly during the process of growth, when the disbursement of cash is constant and, many times in advance.
Best Practices in Managing Small Business Cash Flow
At the beginning, there are some recommended practices that can be used to better administrate the cash flow, especially in small companies.
Review and quicken the accounts payable
To better the cash flow of small businesses the first option that appears is giving a hand to the money that’s on the street. In other words, quicken the receipt and the process of the accounts payable by using strategies that will facilitate the traffic of money towards the company without bothering the client. For this you could:
- Enable mailboxes attended by banks so that clients in remote locations can send payments by mail.
- Request previous authorization or confirmation from clients for your checks so banks can process them in fewer time intervals.
- Centralize your bank accounts.
- Provide your clients with various forms of payments: transfers, checks, cash and credit card.
- Offer discounts to clients if they pay their bills quickly.
Adjust requirements for sales by credit
Companies frequently have to extend their clients credit, most of all when they’re beginning to grow. Nevertheless, the cash flow of small business can be vulnerable and prone to vanish in credit sales. Therefore, it’s necessary to previously investigate the risk of extending each client’s credit. It’s necessary to know if they can pay their bills on time or if their business is really growing. Perhaps they only have problems with liquidity and could use the growth as an excuse to evade payments. It’s advisable to make detailed reports about the client in question and ask them to fill out a credit form. You could also consult the references. Another option to improve the income by credit is by accepting credit cards. This will cost a percentage, generally of two or five percent of each sale, but it could be a safer bet to receive payment for a sale at the moment.
This is an obvious recommendation, and surely you already had it in mind. If you need more money in cash, it seems elemental to attract new clients or sell products or additional services to your current clients, even though this could be more complicated than it sounds. Obtaining new clients is essential for a growing business, but it can take time and money to realize sales. On the other hand, selling new products to existing clients can result to be cheaper and more achievable. However, it’s possible that increasing sales on the same client could only increase the accounts payable and not the cash flow if these sales are by credit.
Offer discounts and promotions
One strategy to increase the cash flow of small companies is by offering discounts and promotions to clients if they pay on time or ahead of time. If so, this practice can affect your margin of income, it can also help manage the cash flow, incentivizing the clients to make payments before the billing cycle that they usually require. The company can also take advantage of its own suppliers and those whom they have debt with, do it carefully though so that these anticipated payments don’t leave you with a deficit on the cash flow.
Every company big or small must know each month what their closing cash balance is of said cycle and how they hope to close next month. This will help project themselves, plan, and correct situations that they don’t want to be repeated, to then make business decisions about the expansion of the company and the maintenance of the bills and existing clients, all this with the established objective of maintaining a positive cash flow.